Sterling hit a fresh 2-1/2-month high versus the euro as markets increased their bets on European Central Bank (ECB) rate cuts while remaining roughly unchanged on the Bank of England (BoE) policy path.
The pound was slightly higher versus the dollar after recording the day before its biggest monthly gain in a year, given pressure on the U.S. currency from growing expectations the Federal Reserve will lower rates earlier than many other central banks.
BoE’s policymaker Megan Greene said late on Thursday UK rates might have to stay high for an extended period as she was more worried about persistently high inflation than some recent data suggesting the economy is in a downturn.
While markets discount a chance of a BoE rate cut in August 2024, they fully price the first ECB policy rate reduction in April 2024 and cumulative 110 bps by the end of next year.
The common currency was down 0.2% at 86.08 pence against the pound, after hitting 86.05 pence, its lowest since Sept. 18. It was on track for a 0.8% weekly fall.
“It has taken some time for this to resonate with the UK rates market, but we are finally seeing signs that the message (of higher-for-longer rates) is being heard,” said Kamal Sharma, forex strategist at BofA. “Our UK economics team believes that the BoE is likely to stay on hold for the majority of 2024.”
“The pound should trade at the top of reset range, but structural headwinds should dominate in 2024,” he argued mentioning possible “anaemic economic growth.”
However, some analysts flagged that last week’s PMIs came in stronger than expected, with the services and composite indices moving back above the 50.0 mark.
Meanwhile, the tax cuts announced by the Treasury are regarded as sterling-positive as they are expected to fuel economic growth and inflation.
British house prices rose unexpectedly in monthly terms for the third time running in November, adding to signs that the housing market downturn has abated.
“The shift in thinking on the ECB (possible rate cuts) given the recent evidence of faster declines in inflation does leave EUR/GBP open to further falls as a divergence in inflation and therefore policy expectations widens further,” said Derek Halpenny, head of research, global markets EMEA at MUFG.
The pound was last up 0.2% at $1.265 and set for a weekly rise of 0.3%.
Investors’ focus will move to comments from Federal Reserve Chair Jerome Powell later on Friday, with traders likely to scrutinize every word to sketch out the rate outlook.
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